Morningstar DBRS Downgrades Three Classes of Wells Fargo Commercial Mortgage Trust 2018-C44, Changes Trends on Five Classes to Negative

DBRS Limited (Morningstar DBRS) downgraded its credit ratings on three classes of Commercial Mortgage Pass-Through Certificates, Series 2018-C44 issued by Wells Fargo Commercial Mortgage Trust 2018-C44 (the Issuer) as follows:

-- Class E-RR to BB (high) (sf) from BBB (low) (sf)
-- Class F-RR to B (sf) from BB (sf)
-- Class G-RR to CCC (sf) from B (high) (sf)

In addition, Morningstar DBRS confirmed its credit ratings on the remaining classes as follows:

-- Class A-2 at AAA (sf)
-- Class A-3 at AAA (sf)
-- Class A-4 at AAA (sf)
-- Class A-5 at AAA (sf)
-- Class A-SB at AAA (sf)
-- Class A-S at AAA (sf)
-- Class X-A at AAA (sf)
-- Class X-B at AA (high) (sf)
-- Class B at AA (sf)
-- Class C at A (sf)
-- Class X-D at BBB (high) (sf)
-- Class D at BBB (sf)

Morningstar DBRS changed the trends on Classes X-B, B, C, X-D, and D to Negative from Stable and maintained the Negative trends on Classes E-RR and F-RR. All other trends are Stable, with the exception of Class G-RR, which has a credit rating that typically does not carry a trend in commercial mortgage-backed securities (CMBS) credit ratings.

The credit rating downgrades and Negative trends reflect Morningstar DBRS' increased loss projections for the pool, attributed to three loans in special servicing, which together represent 8.5% of the pool balance. With this review, Morningstar DBRS considered liquidation scenarios for those three loans, resulting in a total implied loss of nearly $25.0 million. Those losses would erode the nonrated Class H-RR balance by approximately 70.0%, significantly reducing credit support to the lowest-rated principal bonds in the transaction, particularly the Class E-RR, F-RR, and G-RR certificates. Morningstar DBRS is particularly concerned about the largest specially serviced loan, Dulaney Center (Prospectus ID#5, 6.2% of the pool), which is the fourth-largest loan in the pool. This loan is secured by a distressed suburban office property in Towson, Maryland, that recently transferred to special servicing for imminent monetary default, details of which are outlined below. In the analysis for this review, Morningstar DBRS stressed this loan and several other loans secured by office and mixed-use properties with elevated probability of default (POD) penalties and/or increased loan-to-value ratios (LTVs) to reflect the increased credit risk, resulting in a weighted-average (WA) expected loss (EL) for these loans that was nearly 160.0% greater than the pool's WA EL figure. The result of that analysis further supports the credit rating downgrades and Negative trends with this review.

As of the April 2024 remittance, 42 of the original 44 loans remain in the pool with an aggregate principal balance of $723.2 million, representing a collateral reduction of 5.7% since issuance. Four loans, representing 5.5% of the pool balance, are fully defeased. The pool consists primarily of office and retail properties, representing 30.4% and 24.9% of the pool balance, respectively. There are seven loans, representing 11.6% of the pool balance, on the servicer's watchlist and, as noted, four loans, representing 14.7% of the pool balance, in special servicing.

The Dulaney Center loan is secured by two suburban Class A office buildings totaling 316,348 square feet (sf) in Towson, about 7.5 miles north of the Baltimore central business district. Since transferring to special servicing in October 2023, the loan has remained current and the borrower has expressed interest in a loan modification; however, negotiations are ongoing. Occupancy at the property drastically declined during 2021 and 2022, falling to 69.0% by YE2022 from nearly 90.0% at issuance, primarily following the departure of four tenants (Berkley Insurance Company, the General Services Administration, Maxim Healthcare Services, and Roadnet Technologies Inc.) that previously represented 19.0% of the net rentable area (NRA). Since that time, the borrower has been unable to garner any meaningful leasing momentum, with few to no prospective tenants in active lease discussions, as reported by the servicer. According to the December 2023 rent roll, the property was 66.9% occupied with five tenants, representing 6.7% of the NRA, with leases scheduled to expire in the next 12 months and only $0.7 million in leasing reserves.

The loan's debt service coverage ratio (DSCR) has fallen precipitously alongside occupancy, with the YE2023 financials reporting a figure of 1.00 times (x), slightly below the YE2022 figure of 1.21x and well below the Issuer's DSCR of 1.54x. As of Q4 2023, Reis reported that the Towson/Timonium/Hunt Valley submarket had an average vacancy rate of 19.1% and an asking rental rate of $23.81 per sf (psf), well below the subject's in-place rental rate of $28.70 psf. While the property is well maintained and underwent renovations in 2016, which included new lobbies and common area upgrades, it is unlikely the borrower will be able to lease to its current in-place rate, which is roughly 20.0% above market, indicating the potential for further downsizing outside of tenant rollover. Considering the sustained performance along with the headwinds to backfilling vacancy in a challenging submarket, given the investor demand for this property type, Morningstar DBRS analyzed this loan with a stressed LTV ratio and elevated POD penalty, which was approaching 4x the pool average.

Another loan that transferred to special servicing since the last review is 3200 North First Street (Prospectus ID#15, 4.8% of the pool). The loan is secured by an 85,017-sf partial two-story flex/research and development property in San Jose, California, and transferred to special servicing in November 2023 for imminent monetary default after the property's sole tenant, NextEV NIO, vacated as expected in September 2023. The space is currently being marketed for lease; however, the servicer has indicated there has been no leasing activity or prospective tenants. The servicer is currently pursuing foreclosure and the appointment of a receiver. To date, there is no updated appraisal for the subject, which was valued at $30.0 million at issuance; however, Morningstar DBRS expects the value to have declined significantly given that the asset is dark with no leasing prospects and the soft market conditions. Morningstar DBRS' analysis included a liquidation scenario based on a stress to the issuance appraised value, resulting in a projected loss severity in excess of 50.0%.

The two remaining specially serviced loans, Prince and Spring Street Portfolio (Prospectus ID#9, 4.1% of the pool) and 1442 Lexington Avenue (Prospectus ID#25, 1.6% of the pool), have been with the special servicer since 2020 with foreclosure listed as the workout strategy. Both loans are secured by multifamily properties in New York City, which, despite maintaining high occupancy rates of nearly 95% as of June 2023, have faced significant increases in expenses, resulting in insufficient funds to cover debt service payments and property operations. The Prince and Spring Street Portfolio was reappraised in July 2023 for $50.7 million, reflecting a 23.0% decline from the issuance value of $66.0 million, while 1442 Lexington Avenue was reappraised in December 2023 for $8.9 million, reflecting a 50.0% decline from the issuance value of $18.0 million. In its analysis for this review, Morningstar DBRS maintained its liquidation scenarios for both loans, resulting in loss severities of approximately 20.0% and 70.0%, respectively.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.
 
A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (January 23, 2024) at https://dbrs.morningstar.com/research/427030.

Classes X-A, X-B, and X-D are interest-only (IO) certificates that reference a single rated tranche or multiple rated tranches. The IO rating mirrors the lowest-rated applicable reference obligation tranche adjusted upward by one notch if senior in the waterfall.

All credit ratings are subject to surveillance, which could result in credit ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by Morningstar DBRS.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is North American CMBS Surveillance Methodology (March 1, 2024), https://dbrs.morningstar.com/research/428798.

Other methodologies referenced in this transaction are listed at the end of this press release.

The credit rating assigned to Class B materially deviates from the credit rating implied by the predictive model. Morningstar DBRS typically expects there to be a substantial likelihood that a reasonable investor or other user of the credit ratings would consider a three-notch or more deviation from the credit rating stresses implied by the predictive model to be a significant factor in evaluating the credit ratings. The rationale for the material deviation is uncertain loan-level event risk. The analysis for this review included stressed scenarios for several office loans given the general challenges facing the office sector. The results of the analysis suggest downward pressure through the middle of the bond stack, most pronounced for Class B; however, given that the most challenged loans would likely be transferred to special servicing and possibly liquidated, Morningstar DBRS believes the increased risks are most concentrated in the lowest-rated classes, supporting the Negative trend with this review.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link under Related Documents or by contacting us at [email protected].

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the credit rating process. Please note a sensitivity analysis is not performed for CMBS bonds rated CCC or lower. The Morningstar DBRS Long-Term Obligation Rating Scale definition indicates that credit ratings of CCC or lower are assigned when the bond is highly likely to default or default is imminent, thereby prevailing over a sensitivity analysis.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS' outlooks and credit ratings are monitored.

DBRS Limited
DBRS Tower, 181 University Avenue, Suite 700
Toronto, ON M5H 3M7 Canada
Tel. +1 416 593-5577

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

-- North American CMBS Multi-Borrower Rating Methodology (March 1, 2024), https://dbrs.morningstar.com/research/428797
-- Rating North American CMBS Interest-Only Certificates (December 13, 2023), https://dbrs.morningstar.com/research/425261
-- DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 22, 2023), https://dbrs.morningstar.com/research/420982
-- North American Commercial Mortgage Servicer Rankings (August 23, 2023), https://dbrs.morningstar.com/research/419592
-- Legal Criteria for U.S. Structured Finance (December 7, 2023), https://dbrs.morningstar.com/research/425081

A description of how Morningstar DBRS analyzes structured finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/417279.

For more information on this credit or on this industry, visit dbrs.morningstar.com or contact us at [email protected].